Want to drive your auditors crazy? Try this: First, meet with them ahead of the annual audit and agree on a date when your work papers will be ready. Then, when they arrive for the audit, tell them you’re “almost ready” and hand over just enough material to keep them busy until lunch. Repeat as necessary. Later, suddenly remember a contract or revenue-recognition problem that you haven’t previously discussed (the more complex, the better). Finally, as the deadline nears, demand a 24-hour turnaround for the 10-K draft and complain loudly when the auditors tell you it can’t be done.
This scenario may sound like a joke, but in fact auditors say it’s exactly what many CFOs do every year. Michael Deutchman, managing director at Los Angeles–based accounting firm Kabani & Co., says he dreams of walking into a client company where “we can test the records and see right away that they are what they’re supposed to be.”
But in reality, he laments, “there aren’t a lot of CFOs who run companies that way.” More often, says Ben Neuhausen, national director of accounting for BDO Seidman, “the client takes forever to pull together documentation, and then they present it three days before audited financials are due to their lender, or a week before the 10-K has to be written. Somehow they think the auditor will work a miracle.”
The miracle is that despite the chronic unreadiness of auditees, the relationship between auditors and their clients is actually improving. Most auditors — more than 60 percent of those recently surveyed by CFO — say they have a better relationship with clients today compared with three years ago, when the pain of Sarbanes-Oxley compliance was still raw. In part that’s due to new interpretations from the Securities and Exchange Commission that loosen the strictures of Sarbox, leading most auditors to feel they can offer more guidance — “the fun stuff,” in the words of one senior manager. New guidance about how internal controls must be audited, in the form of Auditing Standard No. 5 (AS5) from the Public Company Accounting Oversight Board (PCAOB), has also made things better.
Still, ask auditors what keeps them awake at night and client-related issues will top their replies. More than half the nearly 100 auditors surveyed by CFO said that unprepared clients create high levels of stress. One-third said the same of clients who are difficult to work with. The hassle from clients, in fact, far outranked other strains, such as the pressure to generate more revenue.
No one expects a return to the cozy pre-Sarbox days, when auditors were practically an extension of the finance team. But, auditors wouldn’t mind a little more cooperation and appreciation. “The ideal situation would be clients who understand their own accounting and make the time to get us what we need,” says Bruce Rosen, partner-in-charge of assurance services at New York–based auditing firm Eisner. How often does that happen? By way of reply, Rosen laughs — and laughs some more.
Look Who’s Not Talking
This is not to say that auditors are unsympathetic to their clients’ problems. “Most clients want to be ready, and they do the best they can,” says Russ Wieman, national managing partner of audit and advisory services at Grant Thornton. Still, there is plenty of room for improvement. Some 10 percent of CFOs admit they are typically unprepared for audits, while another 37 percent are only sometimes prepared (see “Can This Relationship Be Saved?“). A lack of qualified staff in corporate finance departments is frequently to blame. “There’s no question that many companies do not have the accounting talent” to cope with increasingly complex accounting rules, says Wieman.
Unprepared clients mean longer audits, longer hours, and, sometimes, auditor burnout. “Some of our toughest decisions are when one job hasn’t wrapped and the next job is starting — what do we do?” says Eisner’s Rosen. Auditors have the option of leaving the audit unfinished and circling back when time permits, something Eisner stipulates in many of its engagement letters. In reality, though, the firm will bend that rule for clients with SEC or other filing deadlines, says Rosen, since few auditors want to be known for making a client miss a deadline.
Another big problem, say auditors, is that CFOs fail to seek their input before making major accounting decisions involving such matters as debt agreements, leases, or asset sales. More than half the respondents to CFO’s survey ranked this among the top three things clients do that reduce the efficiency of an audit. “Tell the auditors [about major decisions] when you’re in the planning stage, and give them the agreements to look at,” advises Neuhausen. “Don’t present them at the end of the year as a surprise.”
Of course, clients claim that such cases are innocent omissions, and they often are. But Neuhausen says that sometimes he “gets the sense that CFOs think if they just present it as a fait accompli, the auditors will just go along with whatever they did and they can slip it by them.”
Complexity Cuts Both Ways
As for longer engagements, auditors are quick to admit that clients aren’t the only ones to blame. Accounting complexity now throws up many hurdles, making it difficult for auditors to breeze through assignments. More and more of their questions need to go to the national office, or at least to another expert in the firm. “I’ve been an audit partner a long time, and 10 years ago I didn’t consult that much, because things weren’t that complicated,” says Wieman. Today he brings in subject-matter experts far more frequently, thanks to complex pronouncements such as FASB Interpretation (FIN) 48 for income taxes. “There are a lot of things out there that individual auditors can’t be expected to know on their own,” he says.
Fair value is another such issue. Both auditors and CFOs surveyed by CFO say that it is one of the top factors that will add to audit costs in the coming year. That’s mainly because it means extra work for both the company and the auditors. “When we go to full fair value, I don’t think there will be enough experts around for everyone,” says Wieman.
Many auditors say they try to work with a company in advance on fair-value issues so that the numbers don’t come as a surprise during the audit. Still, the amount of work involved in estimating fair values is daunting. When it comes to valuing thinly traded securities, for example, a company could once rely on a single broker quote. Now the accounting staff needs to either interview the broker about how she or he arrived at the estimates, obtain multiple broker quotes, or supplement a single quote with some modeling based on recent trades of similar securities.
Yet another reason auditors need more time is the PCAOB’s Auditing Standard No. 3, which prescribes general requirements for audit documentation. Before AS3, auditors used to have casual discussions with clients about such topics as valuations and cash projections and then write a general memo. Now they need to drill down much deeper and document each step along the way. “If you don’t talk about every assumption and how you tested it, you could be in trouble,” says Wieman.
What can be done to break the audit logjam? Regulators have been working on various measures to ease external pressures on auditors. One, the recently implemented AS5, is already having an effect. The standard allows auditors to focus on the riskiest areas of internal controls rather than probe all controls in detail.
AS5 “was like taking a breath,” says Robert Kueppers, deputy CEO of Deloitte. He says the standard signaled a shift away from the PCAOB’s pressure on auditors to “do more, do more, do more.” So far, it has reduced the time on engagements, albeit not dramatically so. “AS5 has at least allowed us to hold the line on audit costs,” says Kueppers.
But the real importance of AS5, adds Kueppers, is that “it gives renewed credibility to the use of professional judgment — that you can make a reasonable assessment about what needs to be probed and it will be respected.” While the PCAOB has yet to inspect the first of the new, risk-based audits (that will likely take place this summer), Kueppers is “confident” Deloitte’s judgments will be affirmed.
Related to the emerging notion of allowing auditors to exercise more judgment, the SEC’s Committee on Improvements to Financial Reporting is mulling the creation of a judgment protocol, or list of recommended steps, for both companies and auditors. By following the protocol, auditors would enjoy a degree of protection from lawsuits if it turned out they were wrong about which transactions to test or what accounting treatment was proper. Not surprisingly, auditors applaud the idea. “What we’re looking for is a framework to follow [that makes us feel we’re] in good shape,” rather than a safe harbor that would inoculate them from any consequences, says Wieman.
The Treasury Department, meanwhile, is sponsoring a committee that is considering a range of actions to encourage audit firms to grow their practices, including liability caps for auditors, a redefinition of the auditor’s responsibility to detect fraud, and a safety net to avoid the loss of a large firm. Headed by former SEC chairman Arthur Levitt and former SEC chief accountant Don Nicolaisen, Treasury’s Advisory Committee on the Accounting Profession is due to release recommendations this summer.
As for the audit firms, some are staffing up so that clients’ foibles exact less of a toll. Moss Adams, for one, says it schedules auditors for 50 to 55 hours per week during the busy season and generally makes sure no one works more than 60 hours per week. The firm is also building extra “wrap-up” time into its auditors’ schedules for the two weeks following an engagement, so that the inevitable follow-on issues don’t create extra scheduling pressures, says Kris Dunning, a partner in the firm’s San Francisco office. Moss Adams is trying to spread more of its work over the year and no longer requires all auditors to come in on weekends during busy season. “This is the best busy season I can remember,” says Dunning, who has been with the firm 18 years.
PricewaterhouseCoopers (PwC) hopes that taking a more behavioral approach to engagements will promote client cooperation. To that end the firm is stressing the importance of empathy and training its auditors to better communicate the value of their work.
“You have to think about standing in [your clients’] shoes,” says Robert Moritz, U.S. assurance leader at PwC. “We make sure our people try to keep in mind that how you deliver the message is as important as the message itself.” So far, PwC surveys indicate that “client perceptions of the relationship [have moved] in the right direction,” says Moritz, although he concedes that “we’ve got a lot of room to improve.”
In the end, though, auditors can tolerate only so much annoyance. Most audit firms conduct an annual “client continuance” assessment, and many are getting tougher about which clients they’ll keep and which they won’t. UHY, for example, recently ended a five-year relationship with a client after the company’s CFO berated the audit staff. “You just can’t have that stuff,” says Larry Kaplan, managing partner of the Boston office of UHY. “There’s enough pressure in this profession without that.”
Alix Stuart is a senior writer at CFO.
To see what auditors in our survey had to say about CFOs, click here.
Is Audit Quality Improving?
The Center for Audit Quality, a new industry group for accounting firms that perform public-company audits, says that audit quality has improved over the past several years, according to its recent survey of audit-committee members. More than 80 percent thought audits were better today than five years ago. The auditors themselves seem somewhat less confident, according to a CFO survey. Just over half — 54 percent — said they are more likely to detect fraud today compared with five years ago, while only 4 percent said they were less likely to find fraud.
“There are things we do today that we rarely did five years ago,” says Robert Kueppers, deputy CEO at Deloitte. One, he says, is to bring in forensic accountants “to try to figure out, if someone wanted to fiddle around with the books, where they would do that.” The new focus on internal controls has helped, too. “If your controls are good, it’s just that much harder to circumvent them,” Kueppers says.
CFOs, however, seem to be more skeptical. In a separate CFO survey (click here), only 23 percent of finance chiefs said they thought auditors were more likely today to detect a fraud, and 11 percent thought they were less likely to do so. — A.S.